Assume Mr.
Matthew wishes to buy a commodity from Mr. Abdul after a month, but wants to
lock in the price today.

After
negotiation, Mr. Matthew enters into an ‘option’ agreement with Mr. Abdul that
gives him a right to buy the commodity for Rs.10 lakh after end of one month.

To
execute this option, Mr. Matthew pays Mr. Abdul a nominal amount say,
Rs.10,000. After a month, either of the two situations may arise:

1. The
price of the commodity goes up

As
ruling prices are higher, Matthew prefers to exercise his ‘option’ of buying
the commodity at the agreed price of Rs.10 lakh with Abdul.

2. The
price of the commodity goes down

It is
advantageous for Mr. Matthew to buy the commodity outside the agreement since
prices have fallen and thus, he would let the ‘option’ agreement go unexercised
and buy the commodity from outside. In this scenario, the maximum loss to
Matthew would be Rs.10,000, which he had paid to Mr. Abdul for entering into the ‘option’
agreement.

Note: Mr.
Matthew has the right but not the obligation to buy from Mr. Abdul. Mr. Abdul,
on the other hand, is obligated to sell to Mr. Matthew, if he exercises his
option.

What are the special features of Options?
Reviewed by S. Chitra
on
September 26, 2017
Rating: 5 3. What are the special features of Options? From Mcx • Options give right to buyer, but no obligation, to buy or sell the under...